1. Narendra Modi’s Rs 500, Rs 1000 notes ban powers Rs 6 lakh cr into banks, births bond shortage at RBI

Narendra Modi’s Rs 500, Rs 1000 notes ban powers Rs 6 lakh cr into banks, births bond shortage at RBI

RBI seems to have already started draining out excess funds by increasing amounts and tenures of reverse repurchase agreements under its liquidity management operations

By: | Published: November 25, 2016 6:16 AM
The situation calls for action from authorities as a banking system awash with unused cash could cause borrowing costs to crash, threatening financial stability, and the RBI risks running short of bonds to offer to banks. (Reuters) The situation calls for action from authorities as a banking system awash with unused cash could cause borrowing costs to crash, threatening financial stability, and the RBI risks running short of bonds to offer to banks. (Reuters)

Prime Minister Narendra Modi’s shock ban on high-denomination currency notes may present a tricky situation for the Reserve Bank of India – a shortage of bonds needed to manage its money-market operations.

About Rs 6 lakh crore ($87.3 billion) have been deposited at lenders since Modi’s November 8 move, as people rush to submit the now defunct Rs 500 and Rs 1,000 bills. Banks had a record Rs 4.3 lakh crore parked with the RBI against bonds as of November 22, according to India Ratings & Research. That’s fast approaching all of the Rs 7 lakh crore worth of notes the RBI has on its books to offer as collateral to banks parking excess funds with it.

The situation calls for action from authorities as a banking system awash with unused cash could cause borrowing costs to crash, threatening financial stability, and the RBI risks running short of bonds to offer to banks.

“The pace of increase in banking system liquidity suggests that the RBI may have to soon resort to liquidity mopping up tools that are beyond its current tool chest,” said Vivek Rajpal, an interest-rates strategist at Nomura Holdings in Singapore. “We can reach a situation wherein the RBI resorts to tools like issuing cash-management bills or a standing deposit facility where it sterilises without need of collateral.”

“We have a number of tools to deal with these issues,” a spokeswoman for the RBI wrote in an e-mailed response to questions.

The RBI seems to have already started draining out excess funds by increasing amounts and tenures of reverse repurchase agreements under its liquidity management operations. Banks have been parking an average Rs 1.75 lakh crore daily with the RBI since November 9, compared with an average Rs 25,600 crore in the three months prior to the currency ban, according to India Ratings.

The biggest currency swap in India’s history has been complicated by the temporary caps that the government has put on the amount of cash people can withdraw from banks while it prints new notes to replenish the funds. That’s making it hard to estimate how much of the deposits will remain in the system after December 30.

“Whether some of these deposits stay or they get withdrawn over time remains to be seen,” said S Naganath, Mumbai-based chief investment officer at DSP BlackRock Investment Managers, which oversees about Rs 50,900 crore in assets. “You’ll probably withdraw all of it because the money was your preferential liquidity that you held with you.”

The government’s decision is expected to disrupt economic activity and damp consumption in short term. Credit Suisse Group and Deutsche Bank have already slashed their economic growth forecasts for India. Goldman Sachs Group said in a November 22 report that the RBI may opt to sell bonds via its open market operations to reverse some of the liquidity it has injected over the past year, if it feels the excess system liquidity is “durable” in nature.

“It is an unprecedented and irregular situation,” said Soumyajit Niyogi, a Mumbai-based associate director at India Ratings. The RBI will have to resort to short-term tools like cash bills if it wants to keep money markets stable.

Please Wait while comments are loading...

Go to Top